Finance Flashcards
What is sovereign lending?
When a private financial institution in one country loans to the sovereign government of another country
- bank loans and bond purchases
- supplements domestic sources of finance (tax, domestic investors)
Why do countries borrow?
- Goal: economic growth
- Borrowing is a quick way to inject capital into an economy without relying solely on domestic sources
- can be used to:
a) invest in public sector businesses
b) build infrastructure - as economy grows:
a) extract higher tax revenue
b) pay off debt
Why do lenders invest?
- For profit, as borrowers must pay back the loans with interest
- Lenders may find that lending money overseas can yield higher profits
What does it mean for a state to default?
To default means to fail to make payments on a debt
Risk of foreign investments?
- That the government will default
- The government can seize the investment
What are austerity measures?
-Policies to reduce costs
- eg; cutting spending, raising taxes, restricting wages
IMF main function, benefits, and criticisms?
Main function:
- to manage financial crises
Benefits:
- Promotes cooperation
- Resolves financial problems in ways that are beneficial to both lenders and borrowers
Criticisms:
- Serves as a debt collector for international banks as they are biased towards lenders
- Preserves subordinate status for developing nations
- Gives borrowing countries little choice in their economic policy (loss of sovereignty)
What is the function of the World Bank? How is it different from the IMF?
- Goal: to promote economic development
- provides loans at below-market interest rates to developing countries
- Different to IMF because:
a) the World Bank seeks to promote development in poor countries
b) IMF is a last resort solution to maintain stability of global economy
What is FDI?
Foreign direct investment involves the acquisition or establishment of a facility/facilities in a foreign country, where the investors play a role in managing the foreign operation.
Why invest in FDI?
- Gain access to local market or local resources
- Avoid tariffs
- Access to cheaper labor, capital, land, etc.
Why do countries let FDI in?
- Less risky than taking loans to build the economy
- Creates jobs, exports, and revenue from taxes
- Brings capital and skilled labor that can be used to develop exporting industries
What is monetary policy?
How a government chooses to stimulate or restrain the economy
What is a fixed exchange rate? What are its advantages and disadvantages?
When a government promises to keep the value of the national currency at an established value relative to another currency (eg; gold, USD)
Advantage:
- Stability and predictability
Disadvantage:
- Constrains government’s monetary policy (have to keep exchange rates constant)
What is a floating exchange rate? What are its advantages and disadvantages?
When a currency’s value is allowed to fluctuate more or less freely, driven by markets and other factors
Advantage:
- Gives the government freedom in their monetary policies
Disadvantage:
- Can change in unstable and unpredictable ways
Why would a country manipulate its currency?
Some countries intentionally keep their currency weak so that:
- Exports are cheaper and more competitive abroad (eg; China)
- Imports are more expensive, driving consumers to buy domestic products instead
- High exports + demand for domestic products = higher employment + faster economic growth
